MOOSE MARKETS

INVESTING THE CANADIAN WAY

Dividend Stocks

Badger Daylighting; Good? Bad? I’m not Pulling the Trigger

Canadian Stocks Analysis, Dividend Stocks

The Company in a Nutshell

  • BAD counts on a network of over 100 locations operating over 1,000 hydrovac units.
  • As it invests continuously in its technology, BAD enjoys a first mover advantage.
  • The company is under lots of pressure by short seller Marc Cohodes.

It is not always easy to make the difference between a good and a bad company. This is exactly what is happening for the past couple of years with Badger Daylighting (BAD.TO). While the company says it’s growing and will be growing at a very fast pace, a famous short seller, Marc Cohodes (who shorted Home Capital Group (HCG.TO), is on a crusade against Badger. Is it THAT BAD? Let’s take a look.

BAD.TO, BAD, Badger DaylightingBusiness Model

Founded in1992, Badger Daylighting Ltd is a provider of non-destructive hydrovac excavation services through two methods: Badger Corporate locations and Operating Partners. The company’s technology, Badger Hydrovac System, is a truck-mounted hydrovac excavation unit. The company is part of the industrial sector, but doesn’t make our top industrial dividend stocks list.

BAD provides services to a diverse customer base including oil and gas, energy, industrial, construction, transportation and other markets, as well as numerous government agencies within Canada and the United States.

Growth Vectors

Source: Badger’s investor presentation

Badger has invested massively to develop its non-destructive excavation technology. It enjoys a massive fleet of 1,000 hydrovac units displayed across a network of over 100 locations. The company intends to use its first mover advantage to expand in U.S. territories. This strategy has worked well in the past few years as you can see in the image above.

Source: Ycharts

BAD also counts on the growing energy market. In fact, one of the reasons why BAD revenue grew that fast was mostly linked to excavation needs in the oil & gas business. Depending on where you stand, this sector could be a growing or volatile business.

Potential Risks

For one, Badger shows a cyclical business affected by seasonality. You clearly see the variation from one quarter to another. This makes it harder for BAD to manage its cash flow during the weaker quarter and always put additional hope that the “good quarters” must remain strong. The company is also over exposed to the oil & gas industry.

Unfortunately, the company is also under strong pressure by famous short seller Marc Cohodes (see affidavit). In his report, Marc highlights the absence of an explanation for lower earnings while revenue keeps growing. Management refused to explain margins contraction based on “sensible competitive information”. Most of the management team left between 2014 and 2016. Mark also questions BAD’s accounting methodologies, real number of trucks in operations and competitions coming from US companies. In other words; this doesn’t smell good.

Dividend Growth Perspective

BAD increased its dividend significantly since 2015, but keep in mind the company had to cut its payment after the 2008 financial crisis (dividend cut occurred in 2011). Are recent dividend increases been made to attract or distract investors?

While the payout ratio is very high, the company’s cash payout ratio is well in control.

Source: Ycharts

If BAD doesn’t show any accounting methodology issues and Cohodes’ concerns are not founded, we expect Badger to keep increasing its dividend going forward. Yet, this is a tricky investment for any dividend growth investors.

BAD.TO doesn’t meet our  7 dividend growth investing principles.

Valuation

Using the past 10 years PE history to have an idea of how BAD should be valued today tells us one thing: this stock is highly volatile.

Source: Ycharts

As you can see, it’s very hard to find an intrinsic value using the price-earnings standard. We also did a dividend discount model (DDM) calculations to find BAD’s value as a dividend growth stocks. Unfortunately, we came out empty-handed once again:

Input Descriptions for 15-Cell Matrix INPUTS
Enter Recent Annual Dividend Payment: $0.54
Enter Expected Dividend Growth Rate Years 1-10: 8.00%
Enter Expected Terminal Dividend Growth Rate: 5.00%
Enter Discount Rate: 10.00%
Discount Rate (Horizontal)
Margin of Safety 9.00% 10.00% 11.00%
20% Premium $21.67 $17.19 $14.21
10% Premium $19.87 $15.76 $13.03
Intrinsic Value $18.06 $14.33 $11.84
10% Discount $16.26 $12.89 $10.66
20% Discount $14.45 $11.46 $9.48

Please read the Dividend Discount Model limitations to fully understand my calculations.

At this point, Badger Daylighting doesn’t qualify as “Dividend Stocks Rock” material.

Final Thoughts

Badger has developed “exaction trucks” that are efficient and flexible. It enables to excavate in extreme winter condition. Since BAD manufactures its own hydrovac units, this gives the company a competitive edge against other competitors. However, BAD is still linked to the oil & gas industry is suffered greatly from over capacity between 2014 and 2016. Competition is heavy in the U.S. and it will put additional pressure on BAD’s margins. Finally, the fact the company is being pursued by a short seller increases BAD’s volatility on the market and raises additional questions. Would you invest in a company where you are not 100% sure management is completely honest? We keep a rating of 3 for both our PRO Rating and Dividend Safety score for those reasons.

If you made it this far, let’s be honest; you liked what you read. Now it’s time to make sure you don’t miss our next analysis and you subscribe to the Moose Newsletter by clicking on this link to make sure you don’t.

 

Disclaimer: We do not hold XYZ in our Dividend Stocks Rock portfolios.

 

TD Bank – The Canadian Bank Surfing on US Tailwinds

Canadian Stocks Analysis, Dividend Stocks, Financials

 

The Company in a Nutshell

  • Canadian bank revenues will increase as interest rate goes up.
  • TD’s very lean structure plays a great role in its expansion.
  • TD has a great presence in the US compared to other Canadian banks.

Business Model

TD is the second largest Canadian bank by market cap and is often playing side-by-side for the 1st position with Royal Bank (RY). TD is the most classic bank in Canada as its business model focuses a lot on retail banking. Its portfolio is well diversified between Canada (61%) and the U.S. (30%). As you can see, TD is mostly active on the US East Coast and shows no presence elsewhere.

TD markets

source: TD Q3 2018 presentation

Canadian banks are not known for their success past the Southern borders. TD is definitely the model other banks are following in that manner. TD has successfully completed several acquisition on U.S. soil and used in-branch expertise to develop their network. In other to remain competitive, TD is developing its mobile services. To this date, it now shows over 12 million clients using their mobile apps.

Growth Vectors

What we like most about TD bank is how management keeps things clean and simple. As the bulk of their business is generated through classic banking activities such as personal and commercial savings and loans, there are hardly no surprises coming from their financial statements. TD enjoys the best of both worlds. On one side, it is the largest Canadian bank in term of total assets and total deposits. It evolves in a highly regulated oligopoly protecting TD (and its peers) from outsiders. On the other side, it has understood how to grow successfully through the U.S. market. As their economy is flourishing, TD is well-established on the East Coast to Capture this tailwind.

Potential Risks

As Canadian interest rates start rising, American investors may be concerned about currency headwinds. But, in a long-term perspective, the currency effect (one way or another) doesn’t affect much an investment return.

The Canadian housing market has always been a concern since 2012, but TD seems to manage its loan book wisely. There hasn’t bee a correction in the housing market back in 2008-2010 as compared to what happened in the U.S. This is how we find very expensive housing markets among Canadian largest cities such as Toronto, Vancouver, Calgary and Edmonton. A higher insured mortgage level in the prairies seems adequate while TD continues to ride the ever-growing downtown Toronto housing market.

Dividend Growth Perspective

TD is a Canadian dividend aristocrat (which permits a “pause” in the dividend increase streak). Management prefers to increase dividend once a year and did so with a 12% increase earlier this year. You can expect the next raise in early 2019. Shareholders can expect a mid single-digit to double-digit dividend growth going forward.

Final Thoughts

A stronger economy from both countries led to TD’s stronger results. TD keeps things clean and simple as the bulk of its income comes from personal and commercial banking. It has a large exposition in major cities like Toronto, Vancouver, Edmonton and Calgary, combined with a strong presence in the US. If you are looking for an investment in a straight forward bank, TD is your pick. This banks is a good example of a perfect dividend triangle.

ScotiaBank – A Taste of Latin America

Canadian Stocks Analysis, Dividend Stocks, Financials


The Company in a Nutshell

  • BNS shows a 7% (CAGR) dividend growth rate over the past 10 years.
  • It is your ticket for an international bank with a solid core in Canada.
  • Recent quarters were fueled by stronger commercial loan demand from its international business.

BNS.TO

Business Model

ScotiaBank is the most international of the Canadian banks. It has built various geographic streams of income coming from Latin America and Asia (emerging markets). In fact, BNS is present in 55 countries. This is a strength other banks don’t have, especially when the Canadian economy is going through challenging periods.

Potential Risks

The bank run into several challenges such as the situation in Venezuela. It seems being present in emerging markets is not always a plus. Overall, diversification is a good strategy, but BNS international presence adds more volatility to its business model.

Dividend Growth Perspective

BNS management offered two dividend hikes in 2017. The first one brought its dividend from $0.74 to $0.76 and the next payment was of $0.79 per share. The two dividend payments come to a total of +6% increase. BNS also shows an annualized growth rate of 7% over the past 10 years.

Final Thoughts

BNS is the most innovative bank in the industry. It has done lots of business outside Canada, and always with an open mind. BNS deserves its international label with 40% of its assets outside Canadian borders. This hasn’t always been an advantage as BNS ran into its share of problems with Latin American economic struggles. However, things seem to get back on track as BNS year-end report shows EPS growth of 8% after adjustments. BNS still continues to find a solid ground in Canada with a +9% growth, but international banking (+15%) and global banking and markets (16%) are its real growth vectors. If BNS succeeds in its $2.9 billion acquisition in Chile, it will become the third largest bank of this country.

Royal Bank – King of Canadian Banks

Canadian Stocks Analysis, Dividend Stocks, Financials

The Company in a Nutshell

  • Royal bank raised its dividend twice a year, a nice tradition for shareholders.
  • Royal Bank has been ranked highest in overall customer satisfaction for the second year in a row.
  • RBC wealth management division will continue to be a growth vector going forward.

RY.TO chart

Business Model

Royal Bank is the largest bank of the group by market cap (it battles with TD) and provides various financial services to individuals as well as commercial and institutional clients. RY has a strong position in the personal and commercial banking sector (50% of its revenue). In 2015, RY bought City National, a Los Angeles-based bank focused on high net worth clients. The transaction opened US doors and another growth vector: wealth management.

Potential Risks

After the last market crash, the bank put its focus on growing its smaller sectors. While wealth management should continue to post stable income, the insurance and capital markets are more inclined to hectic returns. As the largest Canadian bank, Royal Bank could also get hurt by a bearish housing market

Dividend Growth Perspective

Royal Bank has a “tradition” of increasing its dividend twice a year. Therefore, you can count on two low-single digit dividend growth per year. It paused its dividend growth policy between 2008 and 2010, but came back with the double dividend growth tradition in 2012. Even with the crisis, RBC sustained a distribution growth of 8% CAGR for the past 5 years. For our DDM valuation, we have used a 6% dividend growth rate to keep a conservative approach.

Final Thoughts

Over the past 5 years, RY did well because of its smaller divisions acting as growth vectors. The insurance, wealth management and capital markets push RY revenue. Those sectors combined now represent about 50% of its revenue. Royal bank also made huge efforts into diversifying its activities outside Canada. Canadian banks are protected by federal regulations, but this limits their growth. Having a foot outside of the country helps RY to reduce risk and to improve growth potential.

Open Text – a Rare Growth Oriented Company with a Dividend Policy

Dividend Stocks

 

Summary

#1 As businesses grow fast, they are looking for a way to manage their information.

#2 Big data management and security are at the center of many companies’ concerns.

#3 OTEX is a leader in Enterprise Information Management (EIM) systems.

Investing Thesis

Big data, cloud. and security. Those are three keywords you are not done hearing about. As we evolve through an era of consolidation; businesses grow larger every second. Managing growth is one thing, but dealing with the enormous amount of data this growth is bringing inside each company is part of Hercules labors. Enterprise Information Management (EIM) systems have been developed to manage this issue. OpenText (OTEX.TO) happens to be one of the leaders in this emerging business.  Let’s take a deeper look at how OTEX manages its way through the cloud.

Business Model Explained to a 12 Years Old

Imagine you have a business. A big one. Imagine that your business employs 100 people and keeps growing. Each day, you receive tons of information about your products, sales, employees, expenses, contracts, etc. This information is piling up faster than your revenue and you end up with mountains of useless and unreadable reports on your desk. You need a solution that will receive, integrate and digest this data for you. This is what we call Enterprise Information Management (EIM) system. EIM helps managers making better decisions by organizing the information in a way that you can access it rapidly, understand it and trust it.

OTEX is a leader in the EIM industry. It helps over 100,000 customers to share, store, retrieve and analyze their company’s information. Open Text is Canada’s largest enterprise software company.

Revenues

Source: Ycharts

As the need for EIM grows OTEX surfs the wave-like a pro. Management brilliantly combines partnerships and growth by acquisitions to ensure strong quarters one after the other.

Since its creation in 1991, the company has successfully performed 58 mergers & acquisitions. Open Text revenue is not only diversified across 100,000 clients, but also with 41% of their sales coming outside Americas. Through the usage of the cloud technology, OTEX is now able to multiply its products offering to the very same clients:

Earnings

Source: Ycharts

Don’t get fooled by the impressive EPS jump in 2017, this was all about a one-time tax benefit tied to the company’s internal reorganization. Following fast-growing company’s earnings isn’t really a good idea. EPS isn’t a good reflection of what the business is doing. Lots of money is being invested in R&D along with acquisitions. Focusing on its revenue growth perspectives makes more sense at this stage.

Dividend Perspectives

Growth-oriented companies in the techno industry are rarely focused on sharing their profits with their shareholders. OTEX has changed its mind back in 2013 when it pays its first dividend.

Source: Ycharts

As you can see in the graph below, the dividend seems to fluctuate over time. This is because OTEX trades on both the TSE and the U.S. Market (NYSE) under the same symbol. Its dividend payments are announced in USD:

Source: Ycharts

The company successfully increased its dividend by 76% through 5 consecutive dividend increases. There wasn’t a special dividend paid in 2014, the graph only shows a false distortion created by the stock split in February.

Source: ycharts

OTEX management aims at a 20% payout ratio based on cash from operation for the upcoming years. As the company continues its quest for growth, you can expect a double-digit dividend growth policy for several years to come.

OTEX meets my 7 dividend growth investing principles.

Potential Risks

Open Text evolves in a rapidly changing environment. It is continuously one iteration away from becoming obsolete as technology evolves very fast. There are also several competitors in this field lurking to grab OTEX clients. Many of them are larger U.S. companies with additional resources. While Open Text has built a strong name and there is a switching cost for any clients who wish to move to another EIM, it is not impossible that OTEX stop being the flavor of the month at one point.

The second risk I see is that OTEX is condemned to grow by more acquisitions in the future. With several transactions under its belt, it doesn’t seem like a problem. However, this could lead to hectic quarters.

Valuation

At this point of the analysis, I could say that I’m intrigued by OTEX, but I’m still not sure I would put my money on it. Let’s see what the market has to say about OTEX valuation:

Source: Ycharts

By looking at the past 10 years of PE history, it is still difficult to determine a trend. The company’s valuation clearly depends on their short-term growth perspective prior or following an acquisition.

In order to have a better idea of OTEX fair value, I used a double stage dividend discount model. I think management can continue with an aggressive dividend growth policy for the next decade. I also require a 10% return rate due to its sector volatility.

Input Descriptions for 15-Cell Matrix INPUTS
Enter Recent Annual Dividend Payment: $0.66
Enter Expected Dividend Growth Rate Years 1-10: 12.00%
Enter Expected Terminal Dividend Growth Rate: 7.00%
Enter Discount Rate: 10.00%
Discount Rate (Horizontal)
Margin of Safety 9.00% 10.00% 11.00%
20% Premium $64.81 $42.58 $31.50
10% Premium $59.41 $39.03 $28.87
Intrinsic Value $54.01 $35.49 $26.25
10% Discount $48.61 $31.94 $23.62
20% Discount $43.21 $28.39 $21.00

Please read the Dividend Discount Model limitations to fully understand my calculations.

Unfortunately, the bulk of OTEX value lies in its growth perspectives and not within its real numbers. In other words; OTEX is overvalued. The DDM is often difficult to use for smaller yielding stocks. At 1.50%, we can’t really consider OTEX as the strong dividend payer.

Final Thoughts

I think OTEX future will be bright and the company will continue to thrive in the EIM business. However, it doesn’t include all requirements to be part of my personal dividend growth portfolio. I may wait until the company slows down on growth by acquisitions and distribute a larger share of its profit as dividend.

If you made it this far, let’s be honest; you liked what you read. Now it’s time to make sure you don’t miss my next analysis and you subscribe to my newsletter by clicking on this link to make sure you don’t.

Disclaimer: I am not long OTEX in my Dividend Stocks Rock portfolios.

 

Enbridge; There is a 5% Yield Coming From This Pipe

Dividend Stocks

Summary

  1. Enbridge operates the world’s longest pipeline.
  2. It has billions in projects on the table confirming a 10-12% dividend growth rate through 2024.
  3. ENB is clearly undervalued

My Investing Thesis

Honestly, I’m not a big fan of the energy sector. In general, commodities are volatile and companies in these industries often post disastrous results during downturns. Do I need to remind anybody how Husky Energy (HSE.TO) lost 43% over the past 5 years (as at November 24th 2017) and cut its dividend to a big fat ZERO in 2016? Or maybe we should talk about another oil darling named Cenovus Energy (CVE.TO) which lost 63% of its value and cut its dividend from $0.27 to $0.16 and then $0.05 over the past three years?

However, I’m ready to make an exception when we talk about Enbridge (ENB.TO). First things first, ENB isn’t an integrated oil company like HSE and CVE. Enbridge transport oil and natural gas across North America. In other words, it makes a cut on each litre of oil transported in their pipeline. After the merger with Spectra, ENB became an oil sand and natural gas behemoth with over $165 billion in infrastructure assets. As its cash flow is predictable, management expects to drive a 10-12% dividend annual growth through 2024. Between January and November 2017, the stock lost almost 20% and now pays over 5% yield. This makes it a great opportunity on the stock market.

Enbridge 5% yield

Business Model Explained to a 12 Years Old

What is nice about pipelines is that they are like a toll roads. The only difference is that you have no choice to take that road and pay the toll if you want to travel. The best part is that most Enbridge clients enter in 20-25 years transportation contracts. Therefore, no matter what happens, there are always people paying the toll. The cash flow is easy to predict in the future which leads to steady dividend growth.

Enbridge operates the longest pipeline in North America. The company recently merged with Spectra in order to create an energy infrastructure company. About 2/3 of ENB earnings is generated through oil sand (liquid pipelines) distribution while the other 1/3 is coming from natural gas transmission.

Source: Enbridge

Revenues

Source: Ycharts

ENB enjoys its position of strength with its Mainline system and regional oil sands pipelines. This network occupies about 70% of Canada’s pipeline capacities. IN other words; if you want to transport energy in Canada, you will have to deal with Enbridge at one point in time.

Pipelines aren’t directly affected by commodities price fluctuation. However, long term perspectives will be affected as Enbridge’s clients may delay some projects if the oil price isn’t high enough. In the meantime, as pipeline constructions are highly regulated and it is a capital intensive business, no competitors will hurt ENB’s business model during economic downturns.

Earnings

Source: Ycharts

ENB earnings trend isn’t as strong as its revenues. However, you can’t treat earnings growth as you would with a consumer staple company. As ENB business model is capital intensive, amortization and maintenance expenses affect earnings. A better measures of Enbridge success would be a focus on its cash flow from operations or available cash flow from operations (ACFFO):

Source: Ycharts

Source: ENB Q3 2017

As you can see, Enbridge shows a much better picture using those metrics. Enbridge now benefits from a better diversification through natural gas distribution and renewable energy generation. The company has currently $26 billion worth of projects on the table and another $48 billion in development. Among those projects, there is the Line 3 replacement. The company expects the completion of this project in mid-2019. There are still regulatory processes to be completed, but the Line 3 could become a real growth driver for the years to come. In fact, ENB shows an impressive list of growth projects for the upcoming years:

Source: ENB Q3 2017

Dividend Perspectives

Source: Ycharts

As the stock price rose by 250% between the end of 2007 and mid-2015, ENB dividend yield took a serious drop. Since then, the opposite phenomenon is happening. The market got tired of ENB and reduced its growth perspectives based on weaker demand for oil sands. Since management never stopped increasing its dividend for this period, the yield went from low 2% to 5% in the past three years.

What makes the analysis of such companies difficult is that you can’t use the payout ratio or the cash payout ratio to determine the sustainability of the dividend. How can you explain that management expects a 10%+ dividend annualized growth rate through the next 7 years while the payout ratio is at 75% and the company shows a negative cash payout ratio?

Source: Ycharts

However, management explains its dividend policy by using the ACFFO which is not a metric I can get using Ycharts or others financial data website.

Source: ENB Q3 2017

You can get an idea of the required adjustments to get to the ACFFO:

Source: ENB Q3 2017

You can trust management when it tells you it can keep up with their dividend growth rate policy. After all, Enbridge is one of the rare Canadian companies showing such a long dividend growth history. Enbridge has been paying dividend for over 64 years and currently shows a 22 years streak with a consecutive dividend raise. After increasing its dividend by 15% in 2017, management aims at a 10-12% growth rate:

Source: ENB website

Enbridge definitely meets my 7 dividend growth investing principles.

Potential Risks

You can imagine that no stocks lose 20% of their value within 12 months without a good reason, heh? Enbridge isn’t not a perfect company and there are some downsides potential too. For one, Enbridge may have become an energy transportation behemoth… but it also carries a mammoth sized debt.

Source: Ycharts

I told you pipelines were capital intensive, then you have the result of a strong growth through new projects and mergers. In the event of an economic downturn, ENB would be stuck with an important debt to support. As regulations around new pipelines increase, new projects may be difficult to raise in a profitable manner.

Now that the company has committed to an aggressive dividend growth strategy, you can imagine that cash flow is being used right, left and center. Between current pipeline maintenance, debt repayments and dividend distribution, the company may fall short for capital to be invested on additional projects.

Valuation

When a stock drops in value, it doesn’t automatically mean it’s a buy. In fact, many falling knives never come back to life (Nortel and BlackBerry anyone?). However, ENB is currently making profit and its valuation doesn’t look that bad:

Source: Ycharts

At a PE of 24, Enbridge isn’t trading at a high multiple compared its past 10 years. Now digging deeper, I’m using a double stage dividend discount model. I used an 8% growth rate for the first 10 years (which is a lot lower than the 10-12% announced by management). I then reduced the growth rate at 5% to remain conservative in my calculation. Since ENB may face headwinds in the future, I used a 10% discount rate.

Input Descriptions for 15-Cell Matrix INPUTS
Enter Recent Annual Dividend Payment: $2.44
Enter Expected Dividend Growth Rate Years 1-10: 8.00%
Enter Expected Terminal Dividend Growth Rate: 5.00%
Enter Discount Rate: 10.00%
Discount Rate (Horizontal)
Margin of Safety 9.00% 10.00% 11.00%
20% Premium $97.94 $77.69 $64.22
10% Premium $89.77 $71.21 $58.87
Intrinsic Value $81.61 $64.74 $53.52
10% Discount $73.45 $58.26 $48.17
20% Discount $65.29 $51.79 $42.81

Please read the Dividend Discount Model limitations to fully understand my calculations.

As you can see, even with conservative numbers, ENB is strongly undervalued right now. I might be wrong, but I think it’s among the best opportunity on the stock market right now.

Final Thoughts

In the light of my analysis, I’m willing to take my money and invest in Enbridge. I think ENB business model will continue to bring predictable cash flow and management will respect its commitment to a double-digit dividend growth rate for the upcoming 7 years. Using the DDM, Enbridge clearly offer a great entry point below $50.

If you made it this far, let’s be honest; you liked what you read. Now it’s time to make sure you don’t miss my next analysis and you subscribe to my newsletter by clicking on this link to make sure you don’t.

Disclaimer: I am long ENB in my Dividend Stocks Rock portfolios.